We maintain our OVERWEIGHT stance on the fertiliser sector with
Engro Chemical as our top pick. Strong urea demand, stable margins,
double-digit earnings growth during FY09-11 and attractive valuations are
the key variables supporting our positive stance.
■
The sector will absorb the setback of falling international prices,
although we expect the sector’s earnings growth to slow down to 13.5%
during CY09-11 compared with our previous estimates of 20.5%. This is
primarily due to slower appreciation in local urea prices and a slight
reduction in production estimates due to shutdowns and delays in new
capacity additions. We have adjusted down our earnings and target prices to
reflect these one-off events.
■
Urea demand should continue to grow at an average of 3.0% during
CY10-13 with a strong recovery in phosphate sales. Urea margins should
continue to be resilient and the sector should be able to maintain
contribution margins of about 60%. A strong recovery in phosphate sales is
also expected during CY09 with YoY growth of 1.7x.
■
The highlight of the sector is the strong growth potential of Engro with
CY09-11E earnings CAGR of 56%. We reiterate our OUTPERFORM rating
on Engro, offering 29% potential upside from current levels. We also like
FFC with an attractive CY10E dividend yield of 13.1% and a reasonable
upside of about 15.8% on our new DCF-based target price. However, we
have downgraded FFBL to NEUTRAL, due to its limited upside and volatile
cash flow.